How Sticky Wages in Existing Jobs Can Affect Hiring

Abstract

We consider a matching model of employment with wages that are flexible for new hires, but that are sticky within matches. We depart from standard treatments of sticky wages by allowing worker effort to respond to the wage being too high or low. Shimer (2004) and others have illustrated that employment in the Mortensen-Pissarides model does not depend on the degree of wage flexibility in existing matches. But that is not true in our model. If wages of matched workers are stuck too high in a recession, then firms will require more effort, lowering the value of additional labor and reducing new hiring.

Keywords: unemployment, sticky wages, effort

JEL Classification: E32, E24, J22